Value at Risk (VaR)
The industry standard for loss potential.
Value at Risk (VaR) asks the question: 'What is my worst-case loss over a specific time period with a specific confidence level?' For example, a 1-day 95% VaR of $1M means there is a 95% chance you won't lose more than $1M tomorrow (and a 5% chance you will).
Historical vs. Parametric VaR
Historical VaR uses past returns to simulate risk. Parametric VaR assumes a normal distribution. Since markets have fat tails, Parametric VaR often underestimates true crash risk.
Key Takeaways
Regulatory standard for banks.
Does not tell you *how much* you lose if the limit is breached.
Should be paired with stress testing.
Value at Risk (VaR)
The industry standard for loss potential.
Value at Risk (VaR) asks the question: 'What is my worst-case loss over a specific time period with a specific confidence level?' For example, a 1-day 95% VaR of $1M means there is a 95% chance you won't lose more than $1M tomorrow (and a 5% chance you will).
Historical vs. Parametric VaR
Historical VaR uses past returns to simulate risk. Parametric VaR assumes a normal distribution. Since markets have fat tails, Parametric VaR often underestimates true crash risk.
Key Takeaways
Regulatory standard for banks.
Does not tell you *how much* you lose if the limit is breached.
Should be paired with stress testing.
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